The trust economy: A world of P2P money-lending

Just as eBay shook offline retail to its foundations, P2P
lending models such as Kiva, though still marginal, threaten to
disrupt high-street banking. Although the public's faith in banks
has been damaged and credit remains hard to come by, evidence
suggests that a new trust-based economy is proving more efficient
than traditional lending.

Bank of England data reveals that UK credit card companies wrote
off £1,568 million in the third quarter of 2009, up from £747
million in the same quarter of 2008. In 2004, the equivalent loss
was just £488 million. In the US, the delinquency rate on credit
cards at America's largest bank holding-company, Bank of America,
was 7.35 percent in January 2010. Kiva currently has a default rate
of just 1.5 percent. According to Flannery, "We've lent $100
million, and one per cent of that was stolen."

Kiva's success lies in its stringent vetting procedures. Unlike
banks and other lenders, the organisation does not vet its
borrowers directly. Entrepreneurs in the developing world are
digital ghosts, for whom electronic data does not exist. Instead,
Kiva rigorously checks, evaluates and monitors its field partners
-- the 111 MFIs scattered across 52 countries that it uses to
disburse its loans. The selection process for prospective field
partners begins with a desk review, followed by a site visit.

Only 42 percent of all MFIs considered for partnership make it
to the "active review" stage. "There are about 10,000 MFIs on the
planet, reaching about 100 million people," says Premal Shah,
Kiva's president. "The estimated total demand for microfinance
services is about 500 million people. The top 250 MFIs now attract
commercial capital from Citibank and Deutsche Bank and so on, which
means there's a very long tail of MFIs below commercial-investment
grade. Those are known as Tier 2 and Tier 3 MFIs, and Kiva's
capital is intended for them.

"When selecting MFI field partners, Kiva looks at two factors:
risk and "social performance". Shah says Kiva examines 71 variables
on the risk side alone. "I've argued internally that we've gone too
far," he laughs. "Those 71 variables include management and board,
the audited financials of the institution, who else has funded
them, sustainability, their internal controls and operation systems
and MIS [management information systems]. Based on all that, we
give field partners a one- to five-star risk rating. That rating
then determines your credit limit. It's a lot like eBay, in the
sense that as you improve your performance over time, if you
demonstrate fantastic repayments on the Kiva platform, then you can
improve your star rating."

Kiva also sends specially trained "fellows" to assess MFIs in
the field. "Right now we have people in about 40 countries and they
randomly sample ten borrower profiles," Shah continues. "They ask
the loan officers at the MFI in question to take them to the ten
borrowers that day. They verify that the borrower exists, that the
dollar amount raised, the loan terms and the purpose of the loan
are all accurate. If a borrower took a loan to buy a sewing
machine, we need to see it. If one of those four things is
inaccurate, the fellow writes to all the lenders letting them
know." On the social-performance side, Kiva's model uses the Cerise
audit tool, which gauges the social value of MFIs by assessing
their principles through four "dimensions".

Dimension one examines outreach to the poor and excluded: how
many clients are below the poverty line? Dimension two: adaptation
of services to target clients. Dimension three: economic and
sociopolitical benefits for clients and their families. Dimension
four: an MFI's responsibility towards staff, clients, community and
the environment. When assessing applicants for loans, MFIs use a
process known as character-based lending. "Our field partners'
credit committees do something banks used to do a hundred years
ago," Shah explains.

"When they first get to know a client, they literally ask the
neighbours whether they are trustworthy. The algorithm for MFIs
I've visited in west and east Africa, parts of the Caribbean and
South America is character lending. They do reference checks,
because there's no collateral or credit history. But you can get a
very good sense of people that way."

Similarly, when MFIs grant loans to groups -- such as Miss Kakda
Sun Village Bank Group -- they identify a group leader, who is
generally one of the most trusted and respected members of their
community. "We find that groups know and trust each other and are
willing to guarantee each other," says AMK's Luchtenburg. "But with
all loans we use the same principle -- start small, start simple.
Our loans are small, but that way, even in the worst-case scenario
where someone gambles it all away, they can still find a way to pay
it all back." And Flannery sees the current model as just a start.
"[You can have] disintermediated payments via mobile phones, you
can have borrowers becoming lenders, you could create a credit
bureau for the poor," he says.

Comments

You should have a look at Quakle.com which a new person to person lending website in the UK. They consider social networks strong enough to be the base for lending money and believe Credit Score is a way to rise the borrowers' APR and not a real proof of trustworthiness. Wait and see